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In this insightful dialogue, Sagar Parikh engages with Deepak Sharma to explore the transformative potential of cash flow lending for Indian MSMEs. Deepak underscores the significance of democratizing credit access through short-tenor and small-ticket loans, especially for micro-enterprises that comprise 99% of the MSME sector in India. Drawing from his rich experience in banking and financial services, Deepak Sharma provides invaluable guidance on navigating the complexities of B2B financing, highlighting the critical role of innovative lending models in fostering inclusive growth.
Deepak Sharma delves into the pressing challenges faced by MSMEs in accessing financing, particularly in the realm of B2B transactions. Leveraging his extensive experience and deep insights, he offers a fresh perspective on the traditional lending landscape, emphasizing the need for agile and tailored solutions to empower MSMEs. By advocating for cash flow-based lending and trust-based scoring systems, Deepak Sharma presents innovative approaches to address credit gaps and unlock opportunities for sustainable economic development within India’s dynamic MSME sector.
Deepak Sharma’s perspectives on banking innovation and financial inclusion provide several key learnings for the industry:
Leveraging Technology for Inclusion: Sharma emphasizes the transformative impact of technologies like UPI and Aadhaar in fostering financial inclusion. These initiatives not only revolutionize digital payments but also open doors to credit access for underserved segments like SMEs.
Proactive Engagement with Tech Ecosystem: Deepak advocates for proactive engagement with India’s tech ecosystem, encouraging early adoption of initiatives like IndiaStack. He challenges banks to rethink their approach and prepare for future changes in the financial landscape.
Importance of Early Adoption: Reflecting on his experiences at Kotak, Sharma stresses the importance of early adoption of innovative initiatives. Banks that jump in early can leverage emerging opportunities and drive meaningful change.
Value of Learning from Ventures: Deepak highlights the significance of learning from both successful ventures like OCEN and past failures. This learning process is essential for banks to navigate the evolving tech landscape effectively.
Structured Innovation with the 5C Model: Sharma’s structured approach to innovation, encapsulated in the 5C model, emphasizes critical aspects such as customer acquisition, commercial viability, credit assessment, compliance, and collections. This framework ensures alignment on objectives and risk management strategies.
Startup Mindset and Controlled Pilots: Adopting a startup mindset within traditional banking institutions, Deepak advocates for establishing small, specialized teams focused on data analysis, technology, and risk management. Controlled pilots with defined success metrics enable banks to manage—- risk effectively and drive innovation.
Importance of Trust-Based Scoring: Sharma underscores the importance of trust-based scoring systems and proprietary scorecards for credit assessment. Moving away from traditional methods, these innovative approaches provide a holistic view of creditworthiness, especially for SMEs with limited credit histories.
Optimism about OCEN: Deepak Sharma’s views on OCEN reflect a visionary approach to addressing India’s credit gap. He sees OCEN as a pivotal platform to harness India’s data richness and enable comprehensive credit assessment and lending solutions.
In conclusion, Deepak Sharma’s insights emphasize the necessity of embracing innovation and leveraging technology to drive inclusive growth in the financial services sector. By adopting proactive strategies, banks can navigate the evolving landscape of digital lending and unlock opportunities for underserved segments, contributing to India’s economic development.
OCEN is an initiative to unbundle lending and enable the creation of specialized entities, each specialized at one part of the job. Therefore, we envision the future of lending to be a partnership between multiple firms individually focused on sourcing/distribution, identity verification, underwriting, capital arrangement, recollections, etc. The entities like marketplaces who have high business-connect with their customers (businesses or individuals), can embed credit offerings in their applications now. These entities are referred to as Loan Agents’ (LAs) and were previously referred to as ‘Loan Service Providers’ (LSPs).
OCEN (Open Credit Enablement Network) aims at democratising the lending ecosystem. The core philosophy is using open networks to reach out to maximum borrowers and lenders, with reduced risk, more transparency, strict control on funds (both end use & collections) and thus building a robust lending ecosystem. At the borrower level, using consent driven architecture and personal data as information collateral, any type of borrower (even new to credit or people with poor credit scores), can access financing. The end-to-end digital processes not only reduces the total cost of operations, but also has the advantage of reaching out to anyone and everywhere, without the lender having a physical presence. For example, sitting out of Jaipur, a NBFC has disbursed OCEN loan on GeM Sahay to borrowers operating from Andaman Nicobar Islands, Manipur, Baramullah etc and the smallest loan transaction has been of Rs.160 for business purposes.
OCEN is the right protocol, to bring credit/finance to the bottom of the pyramid and at the same time lenders also make money with this same section of people at the bottom of the pyramid. OCEN not only levels the playing field between incumbents and challengers, but also reduces the concentration risk which comes with size at bigger players. Most MSMEs are working capital intensive businesses that need quick money and do not have collateral securities to put up to banks for conventional Cash Credit limits like financing. For such businesses, this is a tool to grow their businesses, and improve their credit scores.
Lenders see opportunities in not only sourcing new business, but also reduced risk due to high quality data and use of DPI (Digital Pubic Infrastructure), like GSTN, Account Aggregator, Digilocker and its associated APIs, like mobility, Health, Fastag etc.
Why OCEN
Low Cost of Acquisition >> The Borrower Agent brings his borrowers on the network, reducing the cost of acquisition through various channels. OCEN framework benefits the Lenders to gain easy access to borrowers. Not just borrowers of one network, but easy access to multiple sets of borrowers of multiple networks.
Lower Cost of Underwriting >> The Borrower Agent also acts as a Provider of Derived Data along with other Underwriting data from various sources like GSTN and Account Aggregator which helps in lowering the Cost of Underwriting
Digitisation >> OCEN Digitises the whole process which involves various activities like Bureau pull, KYC validation, Account Aggregator data, E-Sign on documentation, e-NACH for repayment etc and reduces the time and effort of processing at reduced costs.
Reduced Cost of Collections >> OCEN provides a large opportunity to Lenders and Borrowers to participate in T4 (Type 4) loan products which have End Use Control and Collections control for ensuring higher portfolio quality and cash flow control as well as reduced Cost of collections
OCEN solves for MSME’s Credit requirements: Small Ticket Short Tenure Loan
Small businesses need loans of smaller amounts and for shorter tenures (15/30/90 days) for their businesses compared to larger businesses to help them navigate through the requirement of day-to-day Working Capital needs.
It also helps Lenders to create Loan books for smaller loans which are granular loan exposure on a rotational basis, compared to large bulky loans. Hence reducing concentration risk.
As these Loans are for short tenure, there is higher predictability and lower risk compared to long tenure loans in which recovery of loans may sometimes be a challenge.
The Loan Agent (LA) model is a departure from the Direct Sourcing Agent (DSA) model and is an ‘agent of the borrower’. The LA explains to borrowers their ‘bill of rights’ ensuring transparency and safeguarding of borrower interests. They educate the borrowers about the various credit product offerings, pricing and more details. They help the borrowers get access to formal, affordable credit at low interest rates and collaborates with lenders to create more tailored offerings for borrowers.
In their simplest form, LAs are a loan marketplace that enables borrowers to compare loan offers from multiple lenders and choose the best one. In a more advanced version, the LAs are akin to a borrower’s financial advisor, looking after their interests, fetching the best offers and advising the customer to make good decisions.
In the longer run, it is envisioned that many more LAs (with apps) will be created. Each of them would focus on distinct borrower pools and build the specialized experiences suited to their customers. This would allow lenders to focus purely on their underwriting and collections logic and cater to diverse collaborations with the LAs.
OCEN 4.0
The OCEN model has been built incrementally in phases, with reinforced learnings from each of the previous pilots. The goal for OCEN 4.0 is to build an ecosystem of participants that creates a Cambrian explosion of cash-flow based loan products across different MSME sectors and different types of borrowers.
Participant Roles
OCEN 4.0 supports specialized roles for the participants. The purpose of introducing new roles is that it promotes specialization and enhances system efficiency. For example, by establishing a local network of participants, the burden on lenders is reduced, resulting in increased credit accessibility in underprivileged areas.
Role
Description
Lender
Lenders are the regulated entity that create and own the credit products. They work with other participants as part of a Product Network to serve the Borrower. The Loan-agent understands the borrowers’ credit requirements and works with the lenders to create the product.
Loan-Agent (LA)
Agent of the borrower who will help the Borrower to pick up the best loan offer. The Borrowers agent will charge the Borrower a fee for helping them select the best loan. Loan agent is a more inclusive term that encompasses both Borrower Agent (BA) and Lender Service Provider (LSP), spanning across the existing DLG model referred to as LSP and the emerging model in which BA operates as the borrower agent.
Derived Data Partner (DDP)
A derived data provider is a collaborating partner within the network that furnishes supplementary data to the Lender, aiding in enhancing their underwriting engine with additional information.
Collections Partner (CP)
A Collections Partner is a network-affiliated collaborator designated by the Loan Agent (LA) to aid in the collection process. The lender retains the option to either opt for the Collections Partner or continue using their existing collection procedures.
Disbursement Partner (DP)
A Disbursement Partner (DP) is responsible for supporting Purpose Controlled products. This partner will establish integration with suppliers, retrieve their catalog, and facilitate seamless direct payments to suppliers within the OCEN journey.
KYC Partner
A KYC partner is a collaborator selected by the Loan Agent (LA). This partner can be engaged for Assisted KYC or any technology-related specialization available on the network. The lender retains the choice to employ the KYC partner within the network or continue with their existing procedures.
In addition to the participant roles above, OCEN framework also relies on Account Aggregator and Credit Guarantees (CGTMSE) as part of the loan journey.
Participant Onboarding
All participants are onboarded to OCEN 4.0 via the participant registry. A standard onboarding process is followed for all participants, and their verification is guaranteed by SROs to ensure that new members receive an equivalent level of trust within the network.
Product and Product Network onboarding
Lender will create & manage the Product and the Loan Agent will create & manage the Product Network to serve that product. All participants in OCEN 4.0 can browse the Products and Product Networks on the Product Registry and subscribe to serve a Product via the Product Networks.
Product Networks
OCEN 4.0 enables a network of product networks that participants can discover, collaborate and serve products to borrowers. See sample example below:
Network begins with Product Network 1
Created by Loan Agent 1 who onboards as network participants – 3 lenders, disbursement partner, collections partner and a derived data partner
Loan agent 1 can serve their borrowers other products as well.
Network expands with Product Network 2
Created by Loan Agent 1 who onboards as network participants – 2 new lenders, the same disbursement partner, and a new derived data partner
Loan agent 1 can continue to serve their borrowers other products as well.
Network expands with Product Network 3
Created by Loan Agent 1 who onboards existing participants and a new lender (Lender 6) to serve the product
Participants can discover products and join the product network
Network expands with Product Network 4
Created by a new LA, Loan Agent 2, who onboards existing and new participants to serve the product to their borrowers
GeM is a short form of one stop, ‘Government e-Marketplace’ where common user goods and services can be procured by various Ministries and agencies of the Government. Government e Marketplace (GeM) offers both products and services as part of its offerings to its registered buyers. GeM facilitates the procurement of a spectrum of Product and Service categories in a way to facilitate Buyer in ease of selection and procurement. GeM SAHAY is an online platform built on the OCEN protocol that provides loans against Purchase Orders to the sellers.
GeM SAHAY is the pilot project on OCEN to validate the idea of cash-flow based lending for MSMEs. In this pilot, GeM (Government e-Marketplace) is the Loan Agent. The Lenders onboarded onto the pilot offer loans to MSMEs on the GeM portal against government purchase orders. The pilot validates that short-tenure, small-ticket size loans enabled via the OCEN network works for all participating parties.
GeM as a Loan Agent allows the Goods and Service Providers on GeM to apply for Loans against Purchase orders received through various Government buyers on the GeM portal.
GeM as a Loan agent helps onboard borrowers for lenders reducing the acquisition cost for the lenders
GeM being a loan agent also acts as a Derived Data Provider as it carries rich data of the participating MSME borrowers in terms of past number of orders, value of orders executed, quality incidences, completion timelines, etc and these data points help the participating Lenders to underwrite the MSME loan application.
GeM facilitates digital loan process for MSMEs on its GeM SAHAY portal by ensuring integration with multiple lending institutions and helps the Borrower MSMEs to receive multiple offers for its loan applications. Allowing the MSME to choose the best suitable loan offer creates a market shift from Lender’s market to Borrower’s market.
GeM also acts as a Collection partner for the Lending institutions as it helps the lender with repayment of the loan for the purchase order though the Escrow account where the payment for the orders executed is credited by the purchasing entities.
A second pilot that expanded on the above is the GST SAHAY pilot project. This pilot uses GST data to enable working capital loans where SIDBI is acting as the Loan Agent. An additional parameter for validation on this pilot was the inclusion of the Account Aggregator data for loan underwriting.
In GST SAHAY, borrowers can seek loans against unpaid B2B Invoices for supply of Goods and Services to other businesses. Any business registered with GSTN and filing the statutory returns on GSTN can seek financing against Invoices where goods or services are supplied on credit period.
Borrower can register on GST SAHAY application and upload Invoices against which it seeks to avail financing.
The GST SAHAY application, after seeking the consent of borrower will pull details available from the GST network for its past invoice transactions filed with GSTN, periodic return filings and share the same with Lenders for evaluation and underwriting and credit decisioning.
Similarly, GST SAHAY application after seeking the consent of the borrower will pull details of the Bank statements available from Account Aggregator framework for its past banking data and share the same with Lenders for evaluation and underwriting and credit decisioning.
Lenders will parallelly also check the Credit Bureau of the borrower to assess credit worthiness and past performance on existing credit facilities from other lenders, if available.
Lending institutions will digitally consume all these data points, along with details available on the Invoice to be financed and by using its proprietary rule engine for underwriting and scoring model, will provide an offer to the borrower for the respective Invoice to be financed.
Borrowers may receive multiple offers (higher loan amount, lesser interest rate, longer tenure) from different Lenders based on their evaluation criteria and will have a choice to select the best suitable offer for seeking the disbursement in a digital way by e-signing the loan agreements, e-Nach / Standing instructions, wherein the amount will be credited to the borrower’s account within few minutes.
There are other OCEN innovative product networks which are at various stages of development and are expected to go live to provide seamless credit to the credit starved MSMEs using OCEN API specifications for communication between the parties (Borrowers, Lenders, Loan Agents and other participants)
In this recent OpenHouse, Sagar Parikh discusses with Dr Ravi Modani how democratizing credit through short-tenor and small-ticket loans can help finance Indian MSMEs, 99% of which are micro-enterprises. Dr Modani shares his insights and invaluable guidance to navigate the complex world of B2B financing for MSMEs.
He also delves deep into the challenges faced by them in accessing financing, particularly in the realm of B2B transactions. Drawing from his extensive experience and research, he offers a fresh perspective on the traditional lending landscape and presents innovative solutions to empower MSMEs.
Key Insights from the Video:
The MSME Financing Dilemma: Dr. Modani highlights the significant hurdles that MSMEs encounter when seeking short-tenor and small-ticket loans. He emphasizes the need for a paradigm shift in lending practices to better serve the unique needs of these businesses.
A New Way Of Financing for MSMEs: Dr. Modani advocates for a pioneering financing approach for MSMEs, highlighting the effectiveness of short-tenor and small-ticket loans. These loans, being revolving in nature throughout the year, allow lenders to disburse a higher volume of loans. Consequently, lenders can potentially amplify their AUM by up to 8 times, surpassing the typical 5-6 times AUM ratio associated with traditional lending practices.
Comparing Financial Platforms: Dr. Modani provides a comprehensive comparison between TReDs and OCEN, offering insights into the advantages of leveraging public networks like OCEN for enhanced interoperability and accessibility.
The Power of Public Networks: Leveraging platforms like OCEN and GeM can significantly reduce operational costs for lenders, ultimately leading to lower lending costs and improved efficiency. Dr. Modani illustrates how these public networks can drive down the cost of lending, benefiting both lenders and borrowers alike.
The Time Sensitivity of MSME Financing: Dr. Modani underscores the time-critical nature of MSME lending and stresses the importance of streamlining the loan journey to ensure timely access to funds for businesses.
His illustrations and learnings help in navigating the complex world of MSME financing by embracing innovative approaches. He believes that leveraging public networks like OCEN will only help lenders unlock new growth and success in today’s lending landscape by opening multifold opportunities to them.
(Our petition against India’s late payment culture can be found here)
The Late Payment Problem
We’re going to keep this short. Now that 97% of Indian SMBs were reportedly paid late in 2015, the late payment culture in our business environment has gotten out of hand.
Today, India officially carries the longest average payment delays in the Asia Pacific for B2B SMB invoices, 51% of which are always paid late.
The system currently in place is flawed, and heavily skewed in favor of the largest buyers on the market. The judicial system is over-burdened. It consequently delivers justice far too late to save businesses whose money is trapped in clients’ accounts.
What’s more is that the entire idea of justice by law in business is a debunked protection. Smaller businesses almost never take non-paying clients to court because they fear losing out on future contracts. They would rather suffer through the impact of being paid 90 to 120 days late, while their salaries go unpaid or they miss out on larger opportunities to thrive.
This isn’t guesswork either. Not only has this been verified to us in our hundreds of interactions with Indian CFOs and CEOs, but a commission established to study the impact of the EU directive against late payment found that 60% of European small businesses never even consider a legal battle as an option because they don’t want to spoil working relationships.
And why would hard-working Indian businesses, which prefer compromising to build strong working relationships with clients, be any different?
Our Motivation
As supporters of the business reforms espoused by our esteemed Prime Minister, Shri Narendra Modi, we believe that unorthodox action begets change. And yet, the late payment protections for businesses in India have stagnated in the same state for the last twenty years.
The last committee set up in 2014-15 to study further updates required on the MSMED Act – which provides these legal protections to SMBs – did not even consider the necessity for better options. This was despite the comprehensive database of studies measuring the horrendous effects of late payments on the Indian business environment.
Instead, they directly skipped over the issue of late payment protections, and jumped to the question of “How can we provide more access to loans for these companies?” And all we ask is, why? While access to credit is vital for businesses in any growth economy, late payment is the root of significant troubles in the world. It causes bankruptcy and unemployment, and increases barriers to survival in the business world. It also has a significant impact on inflation since businesses up and down the supply chain mark up prices to survive late payments from their clients.
As a single factor, trade credit is indispensable because it allows companies to keep running operations even during temporary working capital shortfalls. But when it extends to the point where clients refuse to pay their suppliers intentionally, as was the case with 38% of Indian SMBs paid late last year, it needs to be addressed.
A late payment culture which forces sellers and suppliers to simply accept it as an unaddressable pain is the equivalent of a cancerous tumor. It creates chaos, and no one can entirely predict which sections of the body it will hit next if left unchecked.
And this tumor isn’t very difficult to target either. Rather that It’s grown this large from a lack of trying than a lack of successful solutions. While we sit and attempt to convince you of the horrific effects of this problem, the UK government has now passed legislation mandating all large companies to release the details of their payment practices twice a year.
This means that SMBs and startups dealing with larger companies will now be able to check beforehand what the average payment term for their prospective client actually is even before signing them on.
Singlehandedly, this increased visibility has become the best prospective protection against large businesses which exploit their financial influence on their supply chain. Now, with the reputation of their leadership on the line, larger companies have lesser incentive to hoard cash while not paying suppliers.
Even though this may not be immediately possible in India’s current business and political environment, our motivation is to bring about similar unorthodox solutions to protect the average Indian business.
What We Want
What we want is simple – for you to sign the petition, and support us by sharing it among your professional and personal circles. This is no longer a problem which affects business alone, but is also a big contributor to why life in India is getting significantly more expensive year on year.
Next, we want the government to approve another sitting committee which will accept input and feedback from the private sector for meaningful practical solutions rather than laws which look good on paper.
Instead of adding more courts alone, which will be overwhelmed just as soon by India’s burgeoning case burdens, we are pushing for the establishment of a first line of defense. We want for policy to allow for out-of-court protections which can be enforced in straightforward non-payment cases, thus clearing the line in courts for more complicated business disputes.
To this end, as some of the most prolific activists pushing for more awareness of the phenomenon of late payment in India, Hummingbill intends to release a policy white-paper for the Indian government as well in the coming month.
Keep an eye on this space for more updates on this exciting journey. Now that we can depend on your support, click here to read and sign the petition.
But, before you leave, what policy recommendations would you put forth from experience, which could help fight the late payment culture in India? Leave your answers in the comments section below.
“The digital industry is suffering because there have been several cases where advertisers default on payment… We do not have a strong industry body in terms of payment collection yet.” – Amar Deep Singh, CEO, Interactive Avenues
Between April and May 2016, one of India’s e-commerce leaders – Flipkart– filed cases against 20 of its clients for payment, to collect unpaid advertising dues.
Unlike Snapdeal and Amazon, who charge their clients ahead of time,Flipkart provided advertising services to clients on credit.
Though this move made sense as an advantageous proposition to attract more clients away from competitors, they have now initiated legal procedures against non-paying patrons who respectively owe them anywhere from Rs. 90,000 ($1,350) to Rs.1 crore ($150,000).
Is This Non-Payment A Common Problem?
The Indian business culture is infamous for the chaotic state of its payment practices. In fact, India has the longest average payment delays in the Asia Pacific region (Atradius Payment Practice Barometer).
Furthermore, 97% of Indian SMBs were paid late by their clients last year.38% of these businesses claimed that the late payment was an intentional move by clients. It was a means of using trade credit to finance their own working capital needs.
What’s more is that most of these companies will never enforce their contractual terms on overdue Accounts Receivables. Even when 1 in 2 B2B SMB invoices are paid late. And 1 in 7 B2B invoices are still pending past 90 days.
This is because enforcing a contract in court for non-payment by a client can take up to 3 years and 40% of the claim value to resolve (Doing Business India). By the time suppliers manage to get their money from the over-burdened court system, they’re already sinking under.
Which means that larger clients and buyers run pretty roughshod all over smaller SMBs in their supply chain. They even threaten to withhold payment altogether if their suppliers don’t give them unreasonable discounts to get paid faster.
Large buyers are well aware that their smaller suppliers are:
Either not aware of their legal rights in such situations;
Won’t act upon their legal rights because they would choose preserving business relationships over getting paid faster;
Will be tied up in an expensive legal case for years if they try to take matters to court.
This has created an environment where only the most exclusive businesses can demand payments upfront. While others are usually forced to roll the dice on the kind of client they land up with. Or have to face being ignored altogether by prospective customers.
To put this in perspective, for all the talk of “Why don’t businesses just demand payments upfront”, 98% of Indian SMBs extended goods and services on credit to their clients in 2015.
And if you think the situation is bad for regular Indian SMBs, it’s even worse for businesses which deal in digital services or mass communication products.
So Why Does This Story Matter?
Because the Internet and Mobile Association of India (IAMAI) has used the publicity provided by this issue to push for the development of a payment recovery mechanism for their industry.
Several of the largest digital communication platforms and services are members of the IAMAI. And the organization is wisely using this move by Flipkart to justify enforcing meaningful out-of-court payment protections for the digital communication service industry in India.
The issue of late payment has been a given in the Indian business culture for a long time, to the point where it’s barely mentioned in mainstream media. Even according to law firms interviewed on the Flipkart matter by YourStory staff, this case has gained significance in the media only because a large brand like Flipkart was involved.
This is why, by this point, we’re sure you’re asking – How does this affect me as a small business? Of course Flipkart, a well-known brand, would be able to afford taking its clients to court. Yet if we, as small businesses, did the same – we’d probably be bankrupt by the time a verdict came in.
First, most late or non-payment situations can be addressed by integrating global best payment practices into your business – which Hummingbill’s Gmail plugin automatically does for you for free.
Second, Indian companies are gradually getting less court-shy in getting back money they’re owed by non-paying clients.
Third, the actions of the IAMAI shine a light on the necessity of out-of-court payment mechanisms.
Yet, none of the mechanisms put in place by the IAMAI’s committee will protect other non-member small businesses like you or us. Even though we need these defenses just as sorely.
With that in mind, we at Hummingbill are scaling up our war to break India’s late payment culture in the immediate future. The Indian business culture needs a concentrated effort to create better non-litigious protections which can be enforced. SMBs and startups need shielding from larger buyers who wish to exploit their position on the supply chain.
And for that effort, we will need the support of every single one of you. Keep an eye on this space for more information over the next few days.
In the meanwhile, let us know in the comments section below. If you had the ability to enact out-of-court enforceable protections against late paying clients, what measures (except straightforward mediation) would you put in place?
